Initial Coin Offerings (ICO) are all the rage. In 2016, 69 start-ups raised a total of $103 million. In the first half of 2017, $1.2bn has already changed hands. No surprise then, that armies of aficionados and sceptics are lining up to debate the pros and cons of this already infamous innovation. Doubters have started using the dreaded “B-word”, but advocates argue that far from being a bubble, ICOs are set to supersede the likes of P2P lending and crowdfunding as the world’s fastest growing mode of fundraising.
Does the $1.3bn raised via Initial Coin Offerings (ICO) in 2017 really sound the death knell for marketplace finance? Hardly. This isn’t a zero-sum game. Rather, ICOs and crowd finance are different interpretations of the same mission to make financial services accessible to all.
Let’s look at the numbers. The crowd has raised $5.5bn in both debt and equity this year. 56 ICOs compare with 377,000 P2P lending and crowdfunding transactions in 2017, according to data from TAB. The extreme price volatility of cryptocurrencies affects our perception of market size and growth, making it difficult to compare this sector with marketplace finance. Price volatility can also affect market participants in more profound ways. Irrational beliefs and expectations are trumping intrinsic value, creating fertile ground for greater fools and survivor investors, but a hostile jungle for those seeking value creation. To make cryptocurrencies desirable you need a fixed supply of tokens, which creates illiquidity. And an illiquid system without a lender of last resort is a recipe for losses.
ICOs have been likened to the early days of the eurobond markets, but this fad is starting to feel reminiscent of tulips, railway bonds and dotcom shares, a classic bubble characterised by hysteria, skyrocketing asset values and herd-like speculation. The crypto asset class is growing at an unsustainable rate that denies participants and regulators time to understand the risks. This is the Wild West of finance, a new frontier dominated by the allure of easy money, quite unlike the development of marketplace finance, which has exhibited robust but sustainable growth since inception in the first decade of the 21st Century. Data from the TAB shows the crowd finance industry grew at an annual average of 106% from 2006-2016, compared with an average growth rate for ICOs of 696% from their advent in 2014 to 2017.
ICOs are risky business. These transactions provide start-ups with a quick and dirty way to raise capital, but investors will inevitably struggle to compute the risk and reward of complex tokens. Similarly, entrepreneurs that suppose ICOs do not constitute the issuance of securities and are thus exempt from securities laws and the broader regulatory regime could be in for a shock as regulators in major markets scramble to catch up. This is already happening, with the SEC’s recent announcement that ICOs sometimes fall under existing securities regulations. We've seen this already with P2P lending and crowdfunding, with regulators deciding they are already regulated activities and then creating bespoke laws to bolster the existing regime.
The hangover from the ICO binge could be painful for many and yet, it could also herald the beginning of a new era for marketplace finance. Just as the dotcom bubble led to extraordinary technological advances by driving corporate investment in digital technology, so too the craze for cryptocurrencies could accelerate adoption of new technologies and business models across marketplace finance. We should be considering how distributed ledger technology can optimise established funding channels such as P2P lending and crowdfunding. Cross-border lending in cryptocurrencies could allow platforms to diversify portfolios geographically. Blockchain could improve the speed, security and cost of transactions, elevate risk management capabilities of platforms and make the industry more transparent and easier to regulate.
In truth, ICOs and marketplace finance are not in competition. They are different executions of the same premise – creating better, cheaper access to financial services. The practice that achieves ubiquity will be the one that offers the most utility, security and economic value to customers. By identifying and leveraging the benefits of ICO and Blockchain technology, crowdfunding platforms and P2P lenders can do just that.